July 19, 2019

“Head Start” Damages Affirmed Against Employee Who Started Competitor in China

Holland & Knight Trade Secrets Blog
Brandon H. Elledge

An often sought remedy in trade secret cases is unjust enrichment, which Defend Trade Secrets Act (DTSA) and several uniform state trade secret acts permit plaintiffs to seek for the unlawful benefit received by defendants "that is not addressed in computing damages for actual loss." 18 U.S.C. 1836(b)(3)(B)(i)(II). In some instances, unjust enrichment may be the most coveted bucket of relief because it can yield the largest potential recovery. It can come in different forms depending on the jurisdiction and which benefit is sought to be disgorged. For example, unjust enrichment trade secret damages may be the profits received on a particular contract that a competitor bid on and won using your trade secrets. Another common unjust enrichment theory of recovery seeks the "costs savings" a competitor may have received in getting a product to market more quickly or efficiently by virtue of its misappropriation.

Earlier this month (in another trade secret dispute involving a Chinese-based competitor), the Court of Appeals in Sabre GLBL, Inc. v. Shan, 2019 WL 2880999 (3rd. Cir. July 3, 2019), affirmed the confirmation of a $1.1 million arbitration award that was based on "head start" unjust enrichment damages a competitor gained through a former employee's misappropriation. The arbitrator in the underlying proceeding notably had rejected the plaintiff's "cost savings" damages.

The case involved a former Sabre employee and consultant, Melody Shan a/k/a Shan Melody Xiaoyun. Shan worked for this Texas-based technology solutions provider to the tourism industry in various capacities in the United States and China for two decades. Sabre had a restrictive covenant agreement in place with Shan, which prohibited unauthorized disclosure and use of its confidential information and restricted certain competition and interference with its customers and employees for a post-termination period. While still employed at Sabre, Shan started and obtained a 68% ownership interest in a competing Chinese company, Pi-Solution Hangzhou, and began recruiting Sabre employees and customers for that company. In September 2014, Shan resigned from Sabre and returned to China, where she continued to work on her competing venture.

After Sabre discovered what happened and sued Shan, the parties ended up in arbitration proceedings. The arbitrator found Shan liable for violations of the New Jersey Trade Secrets Act (NJTSA) and breaches of fiduciary duty, among other claims. In addition to disgorgement of Shan's $200,000 salary earned during her disloyal employment period, the arbitrator awarded Sabre $1,173,318 in "head start" damages. Such damages were characterized as "the benefit Shan received from her misconduct based on her equity interest in Pi-Solution Hangzhou, which obtained an unlawful development and operations head start as a result of Shan's misconduct."

The accounting period for these types of unjust enrichment damages can be contested expert fights and may depend on the theoretical period of time by which the defendant could have acquired knowledge of the trade secret through legitimate means or on which the defendant could have successfully operated had no misappropriation occurred. In Sabre, the arbitrator found that the "Head start damages represent the benefit to Shan from the increase in Pi-Solution Hangzhou's value, as of December 31, 2014, as a result of the company's being two years further along than it otherwise would have been in developing and commercializing its products and services."

With respect how these "head start" damages were calculated, Sabre's expert based his valuation on what an actual outside investor was willing to pay for a certain percentage of the competing company Shan had set up. Then:

[Sabre's expert] first determined the incremental value of the head start to Pi-Solution Hangzhou by estimating the value of the company as of December 31, 2014, with and without the head start and taking the difference between the two. He then multiplied this figure by 68 percent, Shan's ownership interest in Pi-Solution Hangzhou, … , to determine the amount Shan personally benefitted from her misappropriation and disloyalty. In this manner, [Sabre's expert] determined that the incremental value Pi-Solution Hangzhou received from the two-year head start was $1,725,467, and Shan's share of this incremental value was $1,173,318.

The Court of Appeals concluded that the arbitrator did not act in manifest disregard of the law by accepting this "head start" calculation.

In contrast to this valuation-based "head start" damages, the Court noted that "[s]aved development costs . . . represent the benefit to Shan from Pi-Solution Hangzhou's ability to avoid incurring certain research and development costs by using the confidential information and trade secrets Shan misappropriated rather than developing that information on its own." The Court held that the arbitrator's finding that Sabre failed to prove Pi-Solution Hangzhou's cost savings had no impact on the award of "head start" damages.

Even though Sabre applied the normal deferential standard to an arbitrator's ruling – "Arbitrators have wide latitude in how they conduct proceedings," as the Court noted – it serves as a good reminder not just to the harm a remotely working employee may do to a company's trade secrets, but of the various ways (depending on the jurisdiction) in which a plaintiff may seek unjust enrichment damages in a trade secret dispute. Indeed, Shan argued that "head start" damages were not legally permissible in this case under applicable law, but the Court of Appeals rejected that argument, recognizing that such law permitted plaintiffs "to adapt their damage theory to fit within the particular facts of the case."

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